While Plan Proponent is primarily about Chapter 11 confirmation issues, Subchapter V is becoming a bigger part of Stone & Baxter’s debtor practice, especially with the temporary $7.5 million debt limit. Thus, I’m going to experiment with providing short summaries of each month’s notable Subchapter V opinions. These are not going to be all-encompassing summaries. Rather, we’ll provide a roadmap of the issues and then you can click the cases if you want to dig deeper. We’ll start with May 2023.
Sub V eligibility is almost certainly the most litigated Sub V issue.
In Reis, the court held that a doctor didn’t qualify for Subchapter V because there was too much of a time and intention gap (over 10 years) between the debtor incurring her med school debt and forming her private medical practice for the school debt to qualify as a business debt.
It wasn’t that the debt needed to be directly incurred in connection with the private practice. In fact, the court rejected (the majority position?) that there must be a nexus between the debt and the petition date activity. Rather, it was that the med school debt was too far removed from the debtor’s ultimate business activity, without any other saving business activities, to be categorized as a business debt. Indeed, the debtor had a number of medical employment positions after med school and in the lead-up to forming her private practice and, to be sure, merely having a job is not engaging in a commercial or business activity.
I’ll likely cover the nexus issue more fully in a separate post, as a June opinion from the Northern District of New York held that there is a nexus requirement. Apparently, you’re either on Team Ikalowych or Team Blue (referring to the seminal cases for the majority and minority views).
Another eligibility case, with this case focusing on the requirement that a debtor’s “aggregate noncontingent liquidated secured and unsecured debts” cannot exceed the debt limit, which is currently $7.5 million. The holding is simple: Just because a debt is disputed, or even heavily disputed or subject to a “bona fide dispute,” doesn’t mean that the debt is unliquidated, such that it’s excluded from the debt calculation. Thus, marking a debt as disputed will not, without more, solve your debt limit problem.
Note: I might come back to this case because, while it correctly holds that the debt calculation is based on debts as of the petition date, it seems to suggest that a subsequent disallowance of a debt for any reason will not change the fact that it was a debt as of the petition date. I think the court was merely holding that just because a debt might later be disallowed on the basis of fraud or misrepresentation or might later be equitably subordinated doesn’t mean that it wasn’t originally a debt. That is different, I hope, from a debtor listing a debt as disputed and then having it disallowed later on the basis that it was never a debt at any time (e.g., a debtor listing a disputed guaranty and then the court determining that the debtor never signed it).
If you’re a Sub V Trustee or work for the United States Trustee, then stop right now and read this case about a Vegas doctor who, to put it mildly, failed to convince the court of his “alleged ‘belt-tightening’ and ‘rigorous budgeting’ proclamations.” You know it’s bad when the court is dropping footnotes with hyperlinks to the luxury stores that you shop at.
Ultimately, the plan was doomed for three reasons.
First, the debtor didn’t comply with the applicable provisions of the Code under § 1129(a)(2) because, among other things, he sold some of his Vegas Golden Knights hockey tickets post-petition without a court order under § 363.
Second, he didn’t propose the plan in good faith under § 1129(a)(3) because, despite making $417,000 annually and maintaining “exorbitant monthly expenses,” he proposed to “pay nothing to unsecured creditors.”
Third, the plan wasn’t feasible under § 1129(a)(111) because (i) it depended on the 70 year old doctor sustaining his luxury lifestyle via continued employment and (ii) any hope of overcoming his significantly-negative monthly cash flow by supplementing his practice income with his Social Security payments was lost by his Social Security payment projections being unsupported by the evidence—they were almost $100,000 short per year.
The court could have stopped there and denied confirmation but—likely to send a strong message to this particular debtor—it continued by providing an extensive explanation of how to calculate “disposable income.” Citing to Judge Bonapfel’s Sub V Treatise, the court agreed that courts should look to Chapter 13 to determine what expenses are “reasonably necessary.” Cesaretti provides an excellent summary of how to evaluate expenses in luxury debtor cases.
Here, a couple filed a Sub V case. Their affiliate filed a Chapter 7 case the very next day. The couple was under the debt limit on their petition date but, if you counted their affiliate’s debt, they exceeded the debt limit. Thus, the United States Trustee objected.
Ultimately, the court overruled the UST and held that § 1182 doesn’t direct a court to determine eligibility based on post-petition events. The couple’s eligibility statement was accurate on the petition date and that’s all that mattered. The court took significant issue with the idea that a debtor can “float in and out of Subchapter V at any time” (e.g., what if the debtor incurs a debt under § 364 that puts the debtor over the debt limit—does the debtor lose its Sub V eligibility?). Further, the court couldn’t find how “professional advice and deliberate planning of the timing of a bankruptcy petition is unlawful or abusive.”
This case provides an example of a court ordering a Sub V debtor (which I believe was, at one time, involved in an illegal cannabis farming operation) to, under § 1181(b), file a separate disclosure statement in addition to filing a plan.
There was cause for a separate disclosure statement because the debtor’s plan involved hundreds of farm workers who, despite being represented by class action counsel, were unsophisticated investors who needed to understand more fully and specifically that (i) the debtor’s decision to distribute certain stock to them, rather than cash, might expose the workers to criminal liability and (ii) the workers’ cost in liquidating the distributed stock could exceed the stock’s value. The burden of providing adequate info is on the debtor.
Note: There are prior opinions in Hacienda dealing with the intersection of bankruptcy and cannabis and how violations of state law might impact a debtor’s bankruptcy case.
The holding is all that matters and is very simple: At least in the Second Circuit, and despite the more “permissive reading” of § 1208 by other courts, a Chapter 12 debtor can convert to a Chapter 7 but cannot convert to a Chapter 11 (including a Subchapter V Chapter 11).
This opinion provides an interesting example of a court confirming a Subchapter V plan and all of its provisions and then later determining that one of the plan’s provisions is void because the court lacked subject matter jurisdiction to approve it.
While the court recognized that § 1123(a)(5) lets a court “provide adequate means for the plan’s implementation” and even “preempt conflicting state law” in the process, § 1123(a)(5) is not unlimited. Because that power doesn’t extend to preempting state laws dealing with public health, safety, or welfare, the subject plan’s provision enjoining the Texas Railroad Commission from requiring additional Operator Clean-Up Program actions by the debtor was void.